It started with energy… now inflation has come home

Inflation was hotter and more widespread than expected in March, figures released Tuesday showed, leading economists to predict that another strong reading in April could all but solidify an interest-rate hike in July.

Statistics Canada said the annual inflation jumped to a 2½-year high of 3.3% in March, well above economist expectations for 2.8%. Core inflation — which factors out volatile items such as energy and food prices — rose 1.7%, compared with an expected 1.2%.

The figures show prices are rising not only faster than expected, but also affecting Canadian wallets beyond the gas pumps and grocery stores. That puts pressure on the Bank of Canada, especially given its target inflation range is 2%.

“We were already expecting the Bank of Canada to tighten rates in July, but the March numbers were a shocker,” said Douglas Porter, deputy chief economist at BMO Capital Markets. “This solidifies our forecast of a July rate increase.”

Tuesday’s numbers come less than a week after the Bank of Canada raised its forecast for inflation this year, citing rising energy prices. Inflation in March was also a big leap from February, when the headline number was 2.2% and the core rate was 0.9%.

Gasoline prices were one of the main reasons for the inflation surge, with prices up 18.9% from a year earlier. The strong uptick coincides with rising oil prices in the wake of unrest in North Africa and the Middle East.

The figures helped push the Canadian dollar to its biggest advance against its U.S. counterpart in two months, surging to $1.0457.

Mr. Porter said the Bank of Canada’s next policy meeting, to be held on May 31, will signal whether the Bank of Canada will move to hike rates in July.

“They’ll have strong wording hinting at an increase,” he said, adding such a move is likely if April turns out to be another month of strong inflation — which he expects to be the case.

Economists will now be paying attention to April numbers and, in particular, to core inflation.

“The Bank of Canada will get one more CPI report before their next interest-rate decision on May 31, to assess whether this was a one-off fluke or the start of a new troubling trend,” Mr. Porter said. “Suffice it to say that the bank won’t be comfortable keeping rates on hold beyond the next meeting if this is not a fluke.”

The bank last raised its interest rate in September, when it moved its benchmark number from 0.75% to 1%.

But while the strong inflation data surprised many industry watchers, economist David Rosenberg labelled the inflation fears “uncalled for.”

In a note to investors about inflation in the United States, Mr. Rosenberg, the bearish chief economist and strategist at Gluskin Sheff + Associates, said inflation targets were unlikely to meet the lofty expectations of most economists.

“Whenever we go through one of these commodity spasms, household inflation expectations take off,” he said. “But this has proven to have been a great contrary signal each and every time.”

In the United States, fears over rising fuel and food prices have led some economists to predict inflation levels in that country could top 5%, especially given the U.S. Federal Reserve is not expected to boost its benchmark interest rate this year.

U.S. inflation in March was up 2.7% year over year, according to the consumer price index. Consumers’ one-year inflation expectation was left unchanged at 4.6% after numbers were released earlier in April.

Mr. Rosenberg, however, said history shows inflation is unlikely to hit those kind of levels.

“In periods when inflation expectations breach 6%, as is now the case, inflation has always receded in the next year and by an average of 300 basis points,” he said.

The latter two years showed just how volatility in non-core items can disrupt inflation. The summer of 2008 saw economists predicting inflation levels of nearly 8%, just as oil pushed US$145 a barrel.

“A year later, the inflation rate was flirting with the 0% threshold,” Mr. Rosenberg said